Latin America’s quasi-sovereign companies attract bond investors

State-owned companies across Latin America face falling output, cash woes and expensive investment plans. Yet bondholders can’t get enough.

Companies such as Petroleos Mexicanos SA, Petroleos de Peru SA and Chile’s Codelco are luring investors by offering much higher yields than debt from their respective governments for what is proving essentially the same risk. The argument, it goes, is if the sovereign is doing well, it won’t let the company go under.

“The government won’t want to make a political crisis. Nobody is interested in that,” said Peter Varga, a senior portfolio manager at Erste Asset Management GmbH. “It’s cheaper to kick down the can on the road, so they’ll always help a bit just to avoid default.”

Betting on their bonds has paid off. Debt from Pemex, PetroPeru and Codelco beat the average 5.7 percent return for a Bloomberg index of emerging-market credits in the last three months by at least 1.3 percentage points. While investors have long been touting Pemex’s eye-popping yields, bets on state-backed giants in Peru and Chile are only now making a comeback on the expectation of government support after their weakening finances sent spreads to historical highs.

‘Bizarre’

Examples of inadequate investment and poor management among state-run companies abound worldwide, with South Africa’s Eskom Holdings SOC Ltd a prime example after years of crippling blackouts. In Latin America, what stands out is not just the ability of governments to back them — Mexico, Peru and Chile are all investment-grade credits with a fraction of the debt-to-GDP ratio seen in many developed nations — but their willingness to do so.

“These entities are really quite bizarre,” said Philip Fielding, co-head of emerging markets at Mackay Shields in London. Pemex, for instance, “is quite an unusual monster that sits atop of an otherwise quite normal, investment-grade sovereign.”

PetroPeru started to build a refinery 10 years ago that ended up costing over twice the original budget, straining its finances and saddling it with US$5.2 billion of debt. The company is running out of cash, executives have said, and needs over US$1 billion in the next few months to pay suppliers. Codelco’s production is running at the lowest level in a quarter century while its debt load is the largest among major copper producers tracked by Bloomberg. Pemex, which was downgraded last week by Moody’s Investors Service, has US$11 billion due this year and a total debt burden of US$106 billion, making it the world’s most indebted oil company.

Yet bonds for all three companies are far from distressed — Codelco’s most liquid notes, due in 2036, are trading above par — largely on the expectation of continued government backing. When it downgraded the company late last year, S&P Global Ratings cited it as a reason for a stable outlook. While Fitch slashed PetroPeru’s credit score by three notches on concern about wavering support, the government reassured investors earlier this month, saying the oil producer will get liquidity in the short term and meet all payments to bondholders.

Bond Prices from Latin American Quasis on the Rise

Across emerging markets more generally, sovereign bonds are outperforming US Treasuries amid doubts about the timing and pace of the Federal Reserve’s expected interest-rate cuts. That’s sent the extra yield investors demand to own developing-nation dollar debt instead of Treasuries to 383 basis points, the narrowest in two years, according to indicative data from JPMorgan Chase & Co.

In Mexico, President Andres Manuel Lopez Obrador, who proved much more fiscally responsible than investors feared, has repeatedly put money into Pemex over the years to keep it afloat. In its latest assessment of the sovereign rating, S&P said the government is, in effect, “formally raising debt on behalf of Pemex” this year, “given a line item in the budget to cover 90% of the company’s amortizations.”

“Mexico tends to a very nationalistic country and Pemex is like the eldest child within the family,” said Jennifer Gorgoll, an Atlanta-based portfolio manager at Neuberger Berman Group LLC, which owns Pemex bonds. “It’s so incredibly important to Mexico to maintain that stability and I don’t think a default will ever happen.”

That rings true across the region. Mexico has an oil expropriation day — March 18 — to mark the date it seized the nation’s oil fields in 1938. Nationalising the copper industry in the early 1970s in Chile was so popular that even free-market dictator Augusto Pinochet refused to backtrack on it.